Tax Land, Not Buildings

The owners of the Minneapolis Grain Exchange building pay nearly 42 times more per square-foot of land in property taxes than the adjacent surface parking lot.

Earlier this year, the city of Minneapolis received a grant from Met Council to study possible strategies for doing away with its over-abundance of downtown surface parking. For lots of reasons, the fact that surface parking covers one-third of the entire surface area of downtown is bad news for the city.

One solution to this problem that the city should seriously consider: taxing land at a higher rate than buildings.

The conventional property tax, which taxes land and buildings at the same rate, is essentially backwards when it comes to the behaviors it incentivizes. It penalizes property owners for building or making improvements to their structures, while rewarding speculators and absentee landlords who would rather allow their properties to decay than make expensive (and annually taxable) improvements. Taxing land and buildings at the same rate means that as long as you don’t put any buildings on your land, your tax bill is going to remain relatively cheap. If you’re a speculator, this means that you only need a modest amount of revenue (say, a few bucks a day from people driving into the city for work or to go shopping) in order to sit on that land indefinitely, or until someone comes along offering your “pie-in-the-sky” price (to quote one downtown city planner I spoke to)—effectively keeping the land out of the hands of those with genuine interest in putting it to productive use.

By taxing land at or near its development potential, however, owners of land being used at less than maximum productivity would be paying a disproportionate amount in taxes in order to keep it that way.

Aside from the obvious goal of raising money to pay for public services, we levy taxes either to discourage a particular behavior in favor of another (taxes on cigarettes and alcohol discourage consumption and thus promote healthier lifestyles/lower health care costs), or because a given resource is scarce while demand for it is high (i.e., the gasoline tax). But if the city is trying to encourage development—and to attract the 70,000 more downtown residents it seeks by 2025—it hardly makes sense to place a tax on that behavior. Similarly, if the city wants potential developers to treat land as the scarce resource that it is—encouraging them to build up rather than out in order to maximize economic output and reduce sprawl—it makes sense to tax land at a higher rate than buildings.

The intersection of 5th Avenue South and 3rd Street South in downtown Minneapolis provides an instructive example of how our property tax code is currently sabotaging the city’s development goals. At this intersection, we see three distinct forms of development: a surface parking lot (owned by the Star Tribune Co.), a multi-level parking garage (Gateway Ramp), and a commercial space (the Minneapolis Grain Exchange building).

When you look closely at the property tax bill for each, it becomes clear that the conventional property tax deters development and risk-taking. The surface parking lot spans 2.5 acres, and its owner pays $1.57 per-square-foot of land in annual property taxes to the city. The parking garage across the street spans roughly the same area (2.48 acres), and because of the lot’s structural improvements, pays a bit more than double the surface lot in property tax —$3.70 per-square-foot of land. The Minneapolis Grain Exchange building (which occupies 1.22 acres of the adjacent block), however, pays a staggering $65.34 per-square-foot of land—a rate almost 42 times higher than the surface parking lot.

This is completely backwards. From the city’s perspective, the Grain Exchange building is the best and most preferable use of land of the three, while the surface lot is the least. And yet, looking at the tax figures one would think exactly the opposite. By simply taxing land at a higher rate than improvements, owners would be motivated to maximize the productivity of land. Parking lots would still exist of course, but they would be condensed into above- or underground garages rather than in mile-long parking corridors. In this way, by removing the penalty for production and development, two-rate taxation is actually a form of economic stimulus.

But two-rate taxation is about more than encouraging dense urban development and reducing sprawl. As Rick and Will Rybeck note in a recent essay, two-rate taxation also addresses the root cause of the boom-and-bust cycle of the real estate market:

Higher land taxes discourage land speculation by making it less profitable. Prior to the Great Depression, there was a nationwide real estate boom and bust. Not surprisingly, land values in major U.S. cities declined drastically. Between 1930 and 1940, land values declined in New York, 21 percent; Milwaukee, 25 percent; Cincinnati, 26 percent; New Orleans, 27 percent; Cleveland, 46 percent; Los Angeles, 50 percent, and Detroit, 58 percent.

But Pittsburgh adopted a two-rate property tax in 1914. As evidence that this reform reduces speculation, Pittsburgh’s decline in total land values was only 11 percent between 1930 and 1940.

There are obstacles, of course, to implementation. Current law requires the value of properties in Minneapolis to be assessed every five years. Two-rate taxation would require more frequent land valuation, and the process of assessing the value of a piece of raw land absent its improvements is difficult. Furthermore, as is the case with any tax, there would be winners and losers. Owners with a high improvements-to-land ratio would generally benefit or remain neutral, as would most residential properties (especially owners of multi-family units), while those with a low ratio (think car dealerships and parking lot owners) would see a tax increase. The redistributive nature of the tax could prove politically difficult.

Nevertheless, the benefits almost certainly outweigh the potential costs. As the city ponders ways to encourage denser downtown development and bring more people (and jobs for those people) to the city, implementing a two-rate tax should be under serious consideration.

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About Chris Keimig

Chris Keimig is a writer and teacher living in Minneapolis. He's the founder of the blog Empty Lots, a documentary photo project that examines Twin Cities transit and urban planning issues through the lens of the city's excess parking infrastructure. He earned his MFA in Creative Writing from the University of Minnesota, where he also studied transit planning in his spare time. Follow him on Twitter: @chriskeimig

Interesting piece. Two comments: 1) we don't tax gasoline on par with it's scarcity. Otherwise I doubt the gas tax would have remained stagnant for a decade. 2) How would this tax affect single-family property owners? My house is in an area zoned for multi-family development. Does this mean my taxes should go way up since my lot's development potential is under-utilized? In that same vein, is "development potential" based solely on existing zoning, or some other calculus?

You're right that gas isn't taxed on par with its scarcity, though I do think its scarcity as a resource–in addition to the fact that it's a pollutant–is why we tax it in the first place. As far as defining "development potential"–I think that's a difficult/murky part of getting this right. A better way of phrasing it/approaching it might be as a "development minimum"–that although a particular residential area might be zoned to allow for multi-family development, we want it to achieve at least a baseline amount of density (this number would obviously vary widely,). Taxing anything below the absolute maximum development potential is definitely extreme and probably unfeasible (not to mention undesirable). I think establishing a minimum would be the way to go about it.

To avoid hitting residential uses and car dealerships you could use a formula that compares developed SF to undeveloped SF on the same lot. It would still hurt surface parking lot owners but isn't that the point. If this is passed, I would assume that many land speculators (which have adjacent buildings) would annex neighboring vacant lots to equalize the tax burden. Current practice is to subdivide lots between a building and a parking lot to save money. This would essentially be the opposite practice under the two-rate tax.

A couple thoughts: I would think that establishing the value of land absent improvements would be much easier than trying to incorporate the value of the improvements. It seems like there should be some cost savings in there somewhere, too (e.g. no need to incorporate data from building permits to increase property values, no need to send appraisers out to view the interior of buildings).

But, oh, can you imagine the growing pains associated with switching to this process? I imagine that the process of switching would really leave a lot of property owners in a rough spot. Presumably, many of the lots are empty or underutilized because the market won't currently support the highest and best use. We could build a 10-20 office building on every one of those parking lots, but would we find market-rate tenants for them? Would rents across downtown plummet as a result? Would rents be high enough that the project would be financially feasible?

Also, I'd be interested in hearing opinions about whether this idea could encourage more exurban development (e.g. if exurban land is has a low tax rate because it is not near anything, any company could build anything they wanted there and continue to pay extremely low taxes).

I've had many of the same thoughts. It seems to me that if it were done all at once the market price of land would plummet since obviously not all of it could be developed all at once and the liability of extra taxes would detract from its value. While this would make it easier to acquire land for development, I still think it would be better to phase it in gradually and predictably.

Second, it seems to me that this taxation scheme could be applied selectively, that is only in zones where greater density is desirable, and the rest of the city could be left the way it is currently. This would achieve several things. 1) Most of the single family residences would be unaffected thus simplifying the transition by limiting changes to more sophisticated property owners and thus 2) reducing the chance of a popular backlash. 3) It would focus development on the city center and prevent the kind of exurban and suburban development that you are concerned about.

But right now surface parking lots are the last pieces of property to be developed not the first. Now the redevelopment occurs on unprotected historic fabric buildings, the very buildings housing small independent businesses with low cost space.

Great article, and one that needs much more exposure and discussion. I would add that such a scheme shouldn’t be limited only to downtown areas. That’s the best place to start, with other urban core neighborhoods the next best place to go. More suburban areas will be a tougher sell, but I bet there’s a way to adjust things to make it palatable to them as well.

Anyway, I want to follow up on Reuben's comment because he brings up some good points. For one thing, I don't believe it should be any more difficult to implement a land value tax than the current system. After all, both land value and improved value are already assessed anyway, so you just use the numbers differently. I don't think it would be wise to completely ignore the improved value, since bigger buildings do impose more burdens on services and infrastructure than an empty lot. Still, a significant building might only be worth something like a 3-5x increase in taxes over a parking lot, rather than a 40-60x increase.

Anyway, as I said before, both values are already assessed, so the simplest solution to implementing such a system would be to take the existing tax receipts on the total land+improvement value and adjust the rate on the land value to yield the same total amount of tax dollars. Say for example you have a town with a total of $1 billion in assessable (land+improvement) value. At a rate of 2% that yields $20 million in property taxes. If the land represents 25% of the total value, that's $250 million in land value yielding $5 million in taxes, and $750 million in improvement value yielding $15 million in taxes. If you simply want to flip-flop it, assess the land at 6% which will yield $15 million in taxes, and the improvements at 0.67% yielding $5 million, for the same total of $20 million. Of course the devil is in the details, and that might not be an ideal ratio, but it gets the point across. Either way, this addresses the somewhat arbitrary “development potential” issue which can cause pressures to downzone or other anti-development reactions.

The question about whether the market can support that much development is a good one, and requires further discussion. I’ll say though that even if property isn’t developed to its highest and best use, a land tax will still encourage something to be built rather than nothing. If it causes rents to go down, that’s not really a bad thing. Keep in mind after all that the reduced rents in a big building are offset by the reduced taxes. I don’t know if overall it’s a wash, but it’s not as bad as it might sound at first. This is a way to get more affordable housing and affordable office space without the need to build it out on the periphery. So if more demand can be satisfied in the downtown, then there’s less pressure to build in the exurbs. It’s also a positively-reinforcing situation because such development and redevelopment utilizes infrastructure and city services more efficiently, which means less expansion into the wilderness and ultimately lowering taxes and utility rates.

Whoa dude, wait up. I live and own land in Pittsburgh. This is not the solution you're making it out to be. What you really want is a higher tax on single-use parking lots. Put your parking lots beneath a building, or on the roof, or beneath a green roof, or stack them all into a parking garage (with a green roof, ha!). But surface-level parking with a view of the blue sky should be the most highly taxed inner-city land.

That's not how Pittsburgh works. Probably 50% of our riverfront downtown, in the Strip, and on the north side is surface-level parking lots. All the urban-core border zones — south shore, uptown, lower hill, Washington's Landing: huge parking lots. Parking lots surrounded by stadiums, abandoned buildings, corporate offices, mcmansions, barge docks, projects, whatever, you name it, we've got a parking lot next to it.

By and large, I like and support this idea. Beyond the major hurdle of actually getting something passed through the state legislature, we need to have a change in attitude and policy at the local level.

Single-family homes and under-used spaces near high-demand (and now higher-taxed) areas will respond by wanting to increase the productivity of their land. I'm thinking of areas slightly outside (such as parts of Northeast, Kenwood, Uptown, Southwest in Minneapolis – and places like Irving Park and Summit Hill / Grand in St. Paul).

These places will want to building something more to help off-set increased taxes. However, they may not be able to. In most of Minneapolis, you can't even add an accessory dwelling. Linden Hills (high-demand), you can't building 5 stories without a huge fight. In St. Paul, you can't build 5 stories by a college on Grand Ave. These attitudes will have to change with new forms of taxation, or you'll be hurting a lot of people.

Heres something similar: my retired parents pay $11000/ yr in property tax to live in a 2 bedroom condo in the heart of Portland, OR where they have 1 car because its so walkable. They are seriously considering moving a few miles away into a single family detached home theyd pay about $3000-4000/yr (esp if it was unincorporated and without sidewalks) to live in a home 3 times the sq ft, plus theyd have to have a 2nd car and both cars would be used exponentally more. Real smart public policy to price people out of the city into low density, high VMT areas.

Well I obviously don't know the full situation but AAA average costs of car ownership are upwards of $9,000/yr (used is less but not as much as you think, that was 2011 so I am sure it has changed a bit for 2012) so by moving to own a second car your parents won't actually be saving anything at all and in fact it may cost them more (or break even but then there is the moving, higher energy costs etc to factor in). So yes they have lower taxes to pay to the city, but they have higher costs to pay to the car company and the insurance company, and the auto shop for repairs, and the tire place etc, at least paying to the city gets you that walkable environment.

There is also a high HOA on top. But your point is very true about auto costs. But my thing is why is public policy taxing single family houses at a MUCH lower rate than owner occupied multi-family housing?

This tax policy also says a lot about the main city having to pay for all the social services, police services, affordable & public housing and other burdens that suburbs avoid contributing financially to that the main city pays (allowing the suburbs to have lower taxes and/or spend more on schools). Additionally the BS and complete unfairness of unincorporated land within an urbanized region, people benefiting from public services without paying their fair share.

I'm a diehard urbanite myself, but there is a such a bias in this country in favor of single family housing in the suburbs, it really unfortunately should be a surprise why so many people do live in the city even in 2012. You really have to love cities to do so, because everything favors one to live outside the city… schools, crime, taxes, size of units, housing cost, favoring the long distance high speed auto over inner urban neighborhoods/walkability, noise/pollution of cars, etc

One thing is very clear is that property taxes need to be thouroughly rethought, I think the land value tax is definitely the way forward among several reforms.

Im guessing they live in the Pearl? I would argue that your view is warped. Vehicles are a waste and an annoyance. Gas money? Repair and maintenance fees? Plus buying a second car? Not thanks. Having to drive to reach my destinations is a pain (to me), I love the freedom I get by living in downtown Portland. I can walk everywhere, parks, shops, culture all at my doorstep. Ill admit its not cheap but you save so much directly from transportation costs, not to mention the social, environmental and (arguably) emotional/spiritual benefits. I'm pretty sure that it all comes out in the wash assuming you don't live in a vibrant social hub only to forever retreat to your smaller square footage apartment.

One problem – if there is high vacancy in a market, new construction is often considered "unfeasible" in that the market will not absorb new space enough to justify the cost of construction. Most appraisals I've seen on offices in the last 4 years have stated the Highest and Best Use of vacant land is to hold on to it until development is feasible. Surface parking is the highest and best interim use. Taxing a vacant land owner for not building, during market conditions that make development economically impossible, is unconstitutionally punitive.

Take a look at the Lincoln Institute on Land Policy – that organization advocates the principles of Henry George, a late 19th century thinker about this issue. His principles were the basis for Pittsburgh's adoption of its system, I believe. There is at least one downside to the concept, which is that if a historic property is taxed over the ability of the existing structure to generate the taxes to be paid, then there's an incentive to demolish and rebuild a structure with greater income-producing potential. The key, to preventing parking lots or demolition of historic buildings or other undesired impacts, is to make sure that the land is taxed in a way that incentivizes the investment you want – and not what you don't want.

"Unimproved" property such as a parking lot does not even being to require the same extensive servicing or protection from crime, fires, utilities, etc.

Therefore, the rational basis for taxation is met when the unimproved property pays less taxes for less services.

Not only that, but it is detestably unjust to try and coerce property owners by means of taxation to spend money they may or may not have, simply to fulfill the personal urban visions of others. This would amount to a quasi-Kelo v. City of New London outcome (which never should have transpired in the first place).

"“Unimproved” property such as a parking lot does not even being to require the same extensive servicing or protection from crime, fires, utilities, etc."

Except that when a building is demolished and left with a parking lot, the sidewalks and the street and the sewers and water mains and everything don't magically reduce in size or their required maintenance. A lack of buildings on a site reduces need for schools and libraries sure, and it probably reduces the need for fire services, even if it's a parking lot, but they may actually increase the need for police service since there's less eyes on the street, and parking lots can be more prone to vandalism and break-ins or other issues. The real issue is that we've invested tens or hundreds of thousands of dollars in infrastructure to serve these properties, and if they're allowed to go fallow that investment becomes a liability to the municipality. That's unjust and regressive because it places the burden of operating and maintaining that infrastructure on everyone else.

This is perhaps a new idea by the look of the land (no pun intended) but it is Henry George's old idea of a "single tax", called so because it would, or could or should replace all other taxes because they in turn had the wrong incentives. He went so far as to suggest a 100% tax on the value of land (and none on the improvements) with the reason that the value of your land is ultimately, as it were, a gift from God or a function of your location, accessibility, your neighbors; factors not due to the land owner herself. Improvements would not be taxed in this schema, so if owners or developers wanted to invest, their entire productive investment would go untaxed.

Back to the article, it was not entirely clear whether the proposal was for taxing at different nominal RATES or whether the assessed VALUE of land would change to "full potential".

Can Chris or a policy person comment on whether this type of taxation (which I've read about in Land Lines) has to be enabled at the state level? If so, which states other than Pennsylvania allow municipalities to levy differential tax rates? I assume not all do—my state doesn't even allow cities to levy their own sales taxes.

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Before this can be done, one needs to make sure Minnesota doesn't have a tax uniformity clause in its constitution that prohibits the taxation of improvements and land at different rates. A lot of state constitutions have such a clause, unfortunately (my native Michigan, for example). As a California resident, however, I'll leave that research to you guys.

This piece also includes a description of what exactly happened in Pittsburg (it was only a partial move to land value taxation), how this form of taxation affects development, and how it discourages slums and sprawl.

I think it will answer a lot of questions that have been raised in the comments. Although this idea is rightly strongly associated with Henry George, it was also written of favorably by John Stuart Mill and Adam Smith. I have mentioned this idea to gov't type folk at various meetings before and they just cannot see past the current paradigm of taxing productivity (sales, income and property improvement). This is going to have to be (figuratively) beaten into their heads.